Friday, September 24, 2004

As promised, I have some further thoughts on the Georgist land-tax proposal.

Basic tax theory says the best tax, from an efficiency perspective, is one that has the least impact on people’s actual choices. Thus, some economists have argued that sin taxes are desirable precisely because so many people will not be induced to refrain from sin – they’ll drink and smoke just as much as they always did. As a result, it’s possible to extract tax dollars from them without causing much deadweight loss from deterring activities that people clearly consider valuable. Of course, some people do reduce their activity levels in response to sin taxes, which means these taxes aren’t free from inefficiency. An even more efficient tax is the head tax, which you must pay just for living. This tax can only be avoided by suicide, an option that few people will choose to exercise on the margin (that is, very few people would get pushed off the ledge by the imposition of the head tax who would not have jumped anyway). (Okay, emigration would also allow one to escape a head tax.)

The problem with efficient taxes is they tend to be highly inequitable, or at least regarded as such. Sin taxes fall solely on those who engage in socially disapproved behavior. A head tax imposes the same burden on everyone, regardless of ability to pay. (If the tax is calibrated to your income or wealth, then it’s not a true head tax – it’s a form of income tax dependent on yours or your ancestors’ productive behavior.)

So we come to the Georgist proposal to impose a tax on land. Since the quantity of land is fixed, the Georgists argue, the land tax does not reduce incentives to create anything. As with other efficient taxes, the burden will – as I argued in my previous post – fall disproportionately on those who own land at the time of the tax’s imposition (not on subsequent owners, even though they will be responsible for sending the checks). But, the Georgists argue, such expropriation is justified because the land rightly belongs to the public – not the “owner” – anyway. I responded to that claim as well, noting that many current owners have purchased their land with the fruits of their labor. In this post, I’ll focus on the incentive issue.

David Youngberg has already anticipated one point I wished to make: while land is fixed, space is not. Space can be created, as when taller apartment buildings expand available living areas. Micha Gertner, commenting on Julian’s post, made a different point: not all land is currently known to us, and discovering land creates value. Taxing the value of land reduces the return to investments in discovery.

But there’s another objection I consider more important: that a tax on land can discourage the development and improvement of land. Anything that improves the land increases its market value, causing the tax to rise as well. Some efficient improvements on the margin, ones for which the added value is greater than the cost, will be forgone because the tax reduces the perceived value.

Georgists anticipate this argument, and say that the tax should not be on the whole property value, but on the “ground rent,” meaning the value of the land net of any improvements. The problem, however, is that the ground rent is essentially impossible to calculate, because it cannot be meaningfully separated from the value of improvements. To establish the ground rent, you have to find the value of “unimproved” land that is similar to the property in question in all other respects. In most (or at least very many) realistic cases, that is impossible because similar land will tend to be used similarly.

More importantly, plots of land tend to be highly unique. Rarely is any piece of land is exactly like another in all respects, including location, view, amenities, soil quality, ad infinitum. Even if there exist some types of property that are effectively identical – say, all the plots in a line of tract houses – many others differ substantially. Consider, for instance, a plot of land at the top of a mountain with a glorious ocean view. This plot is distinct from all the other nearby plots of land that are not at the peak. (And all those within a stone’s throw of the peak differ from those a little further down.) Suppose that someone has built a glorious mansion on this plot. The market price of this property will exceed that of all nearby properties for two reasons: first, because of the better location, and second, because of the nice house. The key point is that the two sources of value cannot be distinguished. And while this is an extreme example, what’s true here is true to a lesser extent for most properties in the developed world.

Even if it were in principle possible to calculate the “ground rent” on land and tax only that, politically it’s a dead letter. In reality, no jurisdiction I know of has ever implemented a ground-rent tax instead of a standard property tax, and the reasons are obvious enough: too large a share of the value of property comes from the improvements, not the land. It’s both easier and more remunerative to tax the market value of land, which is much more readily available. And even with this sort of tax, as property owners know well, government assessors have a strong incentive to overestimate the value of land in order to maximize tax receipts.

In reality, then, land taxes are property taxes, and property taxes do create some negative incentives. It might be true that they are less pernicious than those created by some other taxes, such as income taxes and tariffs. But let’s not pretend that land taxes are indifferent or, as the Georgists suggest, benign sources of government revenue.

2 comments:

Anonymous
said...

According to the following Georgist site, there are some jurisdictions in Australia and New Zealand that have attempted to approximate a tax on "unimproved value" of land:

It's not really clear to me from the article how good an approximation these attempts were, and it seems they didn't last very long, but these in any case are the sort of examples the Georgists would cite against your argument.

One advantage of property taxes from the standpoint of local juristdictions is the reliable and predictable nature of the revenue raised. Consider, for example, an office building. Regardless of the vacancy rate, you have to pay the same amount of taxes. Lucky government collects the same revenue no matter how much the (local) economy sucks except for the rare case when the property is assessed downward. Income taxes are subject to the vagaries of the business cycle and people's dishonest tendency to fudge the figures to evade taxes.

I suppose the first effect of a property tax increase on a landlord is to try to pass the cost on to the tenants in the form of a rent increase. If you can't do that, you will be motivated to work harder or smarter to figure out how to cover the additional expense. And, if that doesn't work, you will improve your fudging technique to reduce your income tax even more. If all else fails, you can jump out window of the 15th floor of your hi-rise office building and pretend you can fly!